Prefab Sprout Company

Our project team analyzed the Fraud and Illegal Acts Case (True blood Case Studies- Case 08-9), which involves a questionable sales transaction made between Jersey Johnnie’s Surfboard, an SEC registrant, and Mr. Sinaloa, an independent sales representative of the company. As a simplified overview of the case, an external audit firm was hired on to perform a year-end audit of Jersey Johnnie’s Surfboards, Inc. Towards the end of the audit, the engagement partner notified the auditors that there could be a possibility of fraud and illegal acts made by the company.

As indicated by PCAOB, the written representation cannot be a substitute for substantive procedures. Thus, auditors did not perform adequate procedures to test the management’s estimates. What’s more, inquires were heavily relied on the management’s integrity. Auditors ignored the professional skepticism. Finally, the 30 years and 15 years useful lives, which were adopted previously by Little Drummer, were not appropriately audited. Since the engagement team did not contact the predecessor auditors, the team did not get any audit documents from predecessor auditors regarding the assumptions of 30 years and 15 years. There was no evidence to show the reasonableness of these two assumptions.

CAS 300 requires auditors to their audit using a risk based model where the nature, timing and extent of audit procedures are based on the assessed risk of material misstatement. Pickett (2006) argues that for audits to be effective and efficient, much of the audit effort should be focused on areas that are considered to pose the highest audit risk. Additional audit procedures should be linked to individual audit assertions whereas other audit procedures need to be performed as and when needed. Thus, for an audit plan to be put in place, it is necessary for an auditor to come up with a risk profile of the client comprising an understanding of the business operating by the audit client, assess business risk and also perform its preliminary analytical review.

This paper analyzes a fictional privately held company, Smackey Dog Foods, Inc. as well as its fictional auditor, Keller CPAs. The analysis is based on a Keller Graduate School of Management scenario and a series of questions developed to address concepts learned throughout the External Auditing course. Concepts include: SEC influence, audit planning, audit stages, internal controls, confirmations, sample size, obtaining evidence, inventory, warehousing cycles, Professional Rules of Conduct, and auditor’s legal liability. Each of these auditing concepts are explained and then applied to the scenario between Smackey Dog Foods, Inc. and Keller CPAs.

Sofitec Computers (“Sofitec” or the “Company”) has engaged our firm to perform an audit of their financial statements for the year ending December 31, 2008. Our audit approach requires that we perform a risk based audit in which the amount of substantive testing (“work”) we perform is contingent on how effective the Company’s internal controls are, the risk of the environment the company is operating in, and the amount of risk the firm is willing to accept for issuing an improper audit opinion (i.e., Audit Risk Formula: Audit Risk = Control Risk x Inherent Risk x Detection Risk).

Gauthier, S. J. (n.d.). Better Understanding of The Financial Statement Audit. Retrieved 06 26, 2011, from

An important decision for any shareholder is deciding whether or not to do business with that company. When a business is audited, the operations are reviewed to make sure that nothing is being hidden. An auditor will review the company’s financial statement and practices to confirm that each are direct and correct. The financial statements are the business’s way of representing them and showing that they are following the Generally Accepted Accounting Principles. The audit process is an important one because it provides a platform for the auditor’s opinion concerning the financial statements of the company. As part of the audit process the auditor will conduct an audit plan that outlines a number of actions that he or she will be perform while also detailing the reason for those actions. With every audit, the business’s management is in charge of handing over the financial statements that the auditor will review; while the auditor will review the statements for any material or immaterial misstatements.

In a highly competitive industry there can be many inherent risk factors embedded in a company. Two factors that would affect audit planning decisions could be complex valuation issues and related party transactions. Valuation issues may lead the audit team to request more

1. The audit of Herb’s Hotdogs does pose some engagement risk but not as much risk as a larger, publicly held corporation. The way Herb is required to calculate his rent — and given Herb’s small operations— TLZ Co. may attempt to hold the auditors accountable for missing any material misstatements. Moreover, engagement risk lies, contingently, in the integrity of Herb. Since Herb is required to have an audit, this typically implies a slightly higher level of engagement risk opposed to a firm that is not required to have an audit.

My decision as a banker would be influenced adversely. Firstly, the significant business relationship Mary Frost’s Company has with TS Company would make me skeptical about the independence of the audit. Here, I would recognize a conflict of interest that might provide TS Company with incentive to intentionally misstate their financial statement, as well as, cast doubt on the unqualified opinion given by Tim Frost, the audit partner. Secondly, In this case, I see an incentive, opportunity and rationalization for fraud to occur. Tim Frost, the audit partner on this engagement, has business relationships and alliances with a restricted entity. This means TS Company and Tim Frost have an incentive and opportunity to perpetrate fraud. The rationalization behind this could be TS Company’s recent struggles to generate operating cash

Auditors should look out that the company may have the opportunity to carry out the fraud. There have certain conditions that will occur this opportunity

The analyzed case study refers to the Hollate Manufacturing company, which belonged to the home construction industry since 1950s. The company operated in the United States and Canada with 14 divisions spread throughout the countries. Hollate’s performance was significantly better than its peers, resulting in $1 billion sales. The company maintained its growth over the years due to growth-through-acquisition strategy. However, the home construction industry suffered downturn in recent years. Hollate manufacturing faced a problem with audit as far as with personnel. Four suggestions are given along with answer to the question how to avoid alike situations.

1. Family owned business is a business that is owned by one family, most of the shareholders are from the same family. One of the major problems in this type of business is a conflict in interests among the family’s member. The auditor should be careful and observe the type of the relationship among the family’s member. There should be a written agreement to specify rights, duties, and obligations for each member, the auditor should read those documents for further information. One issue that faced the auditor is to understand the attitude of each member, the risk of manipulating facts can be existed due to the close relationship. In the case of Jack Greenberg, the son has manipulated the numbers in the record

The concept of this question needs the explanation of inter-relation between business risk and audit risk, which is automatically, must include the risk analysis as an approach to auditing to overcome with the concern of handling these risks.

• Making the decision to accept or decline the audit – The main issue an audit firm must consider when accepting or declining an audit is its own business risk. If the auditor backs out of the audit after the engagement letter has been signed, he may be liable for breach of contract.